How to Think Like a Long-Term Investor

For investors concerned about what will affect the long-term growth of their portfolio, it can be difficult to focus on the right issues. Most financial news stories are produced for traders and others in the financial industry who are interested in daily market movements. After all, their paychecks can depend on what goes up and what goes down. But for long-term investors, the implications of what’s happening can be very different. Here are a few interesting—and perhaps counter-intuitive—ideas for long-term investors to keep in mind amid the din of financial markets:

1) Low valuations can be good. It’s nice to have a bigger portfolio, so it feels good when the values of your investments go up. But if you’re building up your nest egg, you actually want prices to be cheap so your money goes farther. You’ll end up getting the best outcome if valuations are low during the “accumulation phase” of your life when you’re buying investments and high during the “spending” phase of your life when you’re selling investments.

2) Volatility isn’t necessarily bad. The up and down movements of financial markets can be gut-wrenching. But if you’re making periodic investments over time, such as putting a portion of each paycheck into a retirement account, there can sometimes be a bright side to volatility. Since your money buys more shares when the market is lower than when the market is higher, the ups and downs may result in a larger portfolio over time than if the market had been flat. This phenomenon is similar to the idea behind dollar-cost averaging.

3) Standard deviation may be the wrong measure of risk. The riskiness of investments (or even entire portfolios) is often described using “annualized standard deviations,” which are statistical measures that can be used to estimate the range of possible outcomes for a 1-year period. But even assuming that these estimates are accurate, using them to estimate potential outcomes over longer periods of time typically means assuming that what happens in one year doesn’t affect what happens in subsequent years. In the real world this assumption isn’t true, so these kinds of estimates may overstate or understate how much risk you’re actually taking.